The Chancellor's surprise Budget announcement that “no one will have to buy an
annuity” caused investors to promptly offloaded holdings in annuity
providers, but was this an overreaction?

So is it really all over for the annuity? You would have thought so, watching the share prices of insurers on Wednesday afternoon, following the Chancellor’s Budget announcement and its dramatic shake-up of Britain’s pension system.

His surprise pledge that “no one will have to buy an annuity” sent shockwaves through the City, where investors promptly offloaded holdings in annuity providers Legal & General and Aviva. Their shares fell by 5pc to 10pc. It was far worse for specialist annuity providers Partnership and Just Retirement, which lost close to half their value in a single hour’s sell-off.

An overreaction? Almost certainly.

The effective compulsion to buy an annuity with the proceeds of pension savings has been a growing source of anger and complaint. But it is the compulsion that investors hate – not the annuity itself.

You get tax relief on the money you put into a pension plan, which is the widely acknowledged benefit of the system. But you pay tax on the income you ultimately draw back out of your pension, too, so it is a fairly equal fiscal arrangement between the individual and the state. Yet over time the Government has wanted to impose greater controls on how we use our pension assets. The money can only be used in certain ways, up to certain limits, over certain periods. Those restrictions caused resentment especially when, at the heart of the stipulations, was the requirement to use most of the pension money to buy an annuity.

When annuity rates plunged, as they did in the wake of the financial crisis, coinciding with a period when larger numbers of people were entering retirement, the dislike of annuities grew stronger. Revelations about exorbitant profits made by firms selling annuities intensified the resentment all the more.

For years many insurers more or less duped savers into swapping their pension pots for a poor-value annuity. They were reluctant to tell savers that higher incomes could be had elsewhere, and instead capitalised on the confusion caused by the complex system and by the public’s understanding that an annuity was something “everyone had to buy”. The result for savers was a reduced income for life.

But this scandal arose from malpractice by insurers and a system that made annuity purchase compulsory, not from the annuity mechanism itself.

Annuities go back to medieval times when monasteries promised regular lifelong incomes in return for lump-sum payments in the form of goods or money, or in return for labour. They became far more financially complex in later centuries. Jane Austen’s characters often referred to annuities as incomes of so many thousands per year, and in Sense and Sensibility one said: “People always live for ever when there is an annuity to be paid them.”

That neatly sums up the benefits of the transaction. In buying an annuity, you dispose of the risk that you might otherwise outlive your resources. The trade-off with the annuity provider is that it will benefit if you die sooner. You and the provider are betting against each other about when you will die.

The advert above is from an edition of The Telegraph a century ago – March 14, 1914. Along the lines of the Austen quote, it states: “Government statistics go to prove that as a result of their freedom from anxiety, annuitants are the longest lived persons in the whole community.”

The provider is Confederation Life Association, a Canadian insurer established in the 1870s.

The rates appear very attractive by the standards today. In 1914, a sum of £500 bought a woman of 60 an annual income of £43. That is a rate of about 9pc, where a 60-year-old today would probably get £25.

But much has changed in a century – most importantly of all, the age at which we die. A Telegraph reader in 1914 who might have responded to the advert would – if she was then aged 60 – already have outlived the average woman sharing her birth year of 1854. On average, women born in 1854 would have died before 1910, somewhere in their mid to late fifties.

A 60-year-old woman today will live on average into her early eighties. Increasing longevity poses huge problems for the insurance industry. It’s the same gamble, but the stakes are bigger.

There is one other reason, perhaps, why annuities will hold their appeal. They are generally provided by robustly capitalised and heavily regulated businesses. That does not mean nothing can go wrong. But if something does, there is a greater chance that savers’ wealth might find protection. So the security of an annuity might trump the security of an income you could alternatively derive from, say, buy-to-let properties.

Confederation Life was forced to dissolve in 1994. Thanks to the Canadian equivalent of our Financial Services Compensation Scheme, policyholders did not lose out.